BKM_chap004_solutions - Chapter 04 - Mutual Funds and Other...

Chapter 04 - Mutual Funds and Other Investment Companies 4-1 CHAPTER 4: MUTUAL FUNDS AND OTHER INVESTMENT COMPANIES PROBLEM SETS 1. The unit investment trust should have lower operating expenses. Because the investment trust portfolio is fixed once the trust is established, it does not have to pay portfolio managers to constantly monitor and rebalance the portfolio as perceived needs or opportunities change. Because the portfolio is fixed, the unit investment trust also incurs virtually no trading costs. 2. a. Unit investment trusts : diversification from large-scale investing, lower transaction costs associated with large-scale trading, low management fees, predictable portfolio composition, guaranteed low portfolio turnover rate. b. Open-end mutual funds : diversification from large-scale investing, lower transaction costs associated with large-scale trading, professional management that may be able to take advantage of buy or sell opportunities as they arise, record keeping. c. Individual stocks and bonds : No management fee, realization of capital gains or losses can be coordinated with investors’ personal tax situations, portfolio can be designed to investor’s specific risk profile. 3. Open-end funds are obligated to redeem investor's shares at net asset value, and thus must keep cash or cash-equivalent securities on hand in order to meet potential redemptions. Closed-end funds do not need the cash reserves because there are no redemptions for closed-end funds. Investors in closed-end funds sell their shares when they wish to cash out. 4. Balanced funds keep relatively stable proportions of funds invested in each asset class. They are meant as convenient instruments to provide participation in a range of asset classes. Life-cycle funds are balanced funds whose asset mix generally depends on the age of the investor. Aggressive life-cycle funds, with larger investments in equities, are marketed to younger investors, while conservative life-cycle funds, with larger investments in fixed-income securities, are designed for older investors. Asset allocation funds, in contrast, may vary the proportions invested in each asset class by large amounts as predictions of relative performance across classes vary. Asset allocation funds therefore engage in more aggressive market timing.

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